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Politics, Recovery -What could go wrong?

, December 12, 2019, 0 Comments

In case anyone was wondering, the title of this edition of Economic Insights is a misquotation from the C19 English poet Robert Browning and constitutes, therefore, a literary upgrade to the previous edition’s self-indulgent punning on songwriters Bernard and Smith’s ‘Winter Wonderland’. In the latter edition, the ‘wonder’ was mainly inspired by the prolonged disconnect between the earnings and valuation of US equities, which has not gone away. Last week there was a bit of a market wobble but now that Thanksgiving, Black Friday and Cyber Monday are upon us, bullishness seems to be increasing yet further. This poses the immediate question as to whether there are more gains to be had in the run-up to Christmas.

Last November provided a modest respite for investors in between a nervous October and brutally unfestive December until Christmas Eve heralded a new epiphany. This year Q4 is shaping up quite differently with exceptionally low volatility. Nevertheless, it would be a brave call to resist taking some profits before year end and start a new year with markets showing gains of 20% or more from over a year ago.

politics-recovery

Politics: Things to worry about

Figure 1 provides a handy if somewhat depressing list and it is hard to downplay the potential impact of these issues even if one questions their likelihood. It is interesting to see politics feature so prominently but it seems to have replaced ‘mere’ economics as the preferred object of at least lip service paid by investors to fundamental developments.

It is, however, hard not to see this as little more than a fad when share prices react instantly to the latest smoke signal on the US-China trade dispute. Surely, by now it has become clear that any settlement would be both limited and fragile within the wider geopolitical context of international and domestic divisions. Moreover, the divisions arise from the economic reality that for most of the world’s population growth in income and wealth is either slowing or going into reverse. It is true that more people are being lifted out of absolute poverty but this has not stopped mass migration into richer countries at a time when the latter are losing economic momentum.

This is the ‘Biggest Picture’ of all and it explains the rise of nationalism, protectionism and the continuing failure to face up to Climate Change. On this basis, Mr Trump should be seen more as a symptom than a cause of division and be given some credit for identifying at least some of the problems. Nevertheless, his narcissism, impetuosity and nepotism is undermining his presidency to the extent that, assuming he is not ultimately impeached, he may not run again next November.politics-recovery-

Figure 2 shows just how difficult it will be for any President to hold the US together and there are similar if less extreme challenges in other advanced economies, notably France and the UK. It is hard to believe that these charts refer to the US rather than a dictatorship in Africa, Latin America or Asia. In the richer democracies Populist right-wing parties, with support from older working class voters, may for a while still be able to get elected on a conservative platform but they will only delay the inevitable radical changes to taxation, welfare and other public services. One of many ironies is that financial markets are fearful of such changes and yet the most likely outcome would be a boost to consumption and corporate earnings.

Economics: Recovery around the bend

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One of the most cited explanations for the latest rally in equities is widespread expectation that individual and the global economies will somehow turn up, a line of thought with which Charles Dickens’s Mr Micawber would approve. Figure 3 certainly indicates that quite a few things need to turn up. Despite, or because of, its status as the rich countries’ club, the OECD may not be famous for its forecasts (who is?) but its strong suit is identifying issues and trends. So, how is Q4 going?

The main thing is that Consumer Confidence and Retail Sales are ticking over in the US but despite the latest upgrade of Q3 GDP to 2.1% the Atlanta Fed is raising fresh doubts with its Q4 GDP Nowcast’s struggling below 0.5% annualised. We shall find out more with the US shopping blitz about to take place. Consumer Confidence and Retail Sales are also just about holding up in the Euro Area (excluding Italy!) and even in the UK but not in China. It is just about possible to take comfort from some signs of life in manufacturing PMIs, notably an increase in new orders (red line in Figure 3).

However, the latest authoritative survey from CPB in the Netherlands shows that trade volumes in September were lower for the fourth consecutive month, continuing the dismal trend since last December. Q3 GDP has ended up being less bad than feared in Germany and France but other indicators from China, Japan, India, Italy, Spain, Hong Kong, Singapore and the UK are not encouraging. So, it must be faith in the Central Banks that makes investors so confident about next year?